HomeTextbook Notes300,000CA170,000

EC223 Chapter Notes - Chapter 7: Arbitrage, Dividend Discount Model, Efficient-Market Hypothesis

63 views2 pages

26 Jan 2013

School

Department

Course

Professor

Angela Trimarchi

For unlimited access to Textbook Notes, a Class+ subscription is required.

Document Summary

P0 = div1 + p1_____ (1+ke) (1 +ke) Common stock if the principal way that corporations raise equity capital. This ownership interest gives shareholders a bundle of rights. Dividends are payments made periodically, usually every quarter, to stockholders. To value the stock today, you need to find the present discounted value of the expected cash flows. P0 = the current price of the stock. Div1 = the dividend paid at the end of the year ke = the required return on investments in equity. P1 = the price at the end of the first period; the assumed sales price of the stock. The one-period valuation model can be extended to any number of periods. Buyers of the stock expect that the firm will pay dividends someday. Most of the time a firm institutes dividends as soon as it has completed the rapid growth phase of its life cycle.

Related Documents

EC223 Lecture Notes - Lecture 10: Rational Expectations, Behavioral Economics, Efficient-Market Hypothesis

turquoisewasp140

EC223 Chapter 7: EC223 Chapter 7 Notes.docx

fuchsiatortoise130

EC223 Study Guide - Final Guide: Money Multiplier

Related Questions

d. TTC recently introduced a new line of products that has been wildly successful. On the basis of this

success and anticipated future success, the following free cash flows were projected:

FCF (in millions)

After the 10th year, TTC's financial planners anticipate that its free cash flow will grow at a constant rate

of 6%. Also, the firm concluded that the new product caused the WACC to fall to 9%. The market value

of TTC's debt is $1,200 million, it uses no preferred stock, and there are 20 million shares of common

stock outstanding. Use the corporate valuation model approach to value the stock.

INPUT DATA: (Dollars in Millions)

Millions of shares

PV of FCF_1-10 =

HV at Year 10 of FCF after Year 10 = FCF₁₁/(WACC â g_n):

PV of HV at Year 0 = HV/(1+WACC)¹⁰:

Sum = Value of the Total Corporation

Less: MV of Debt and Preferred

Value of Common Equity

Number of Shares (in Millions) to Divide By:

Value per Share = Value of Common Equity/No. Shares:

using the discounted

The price as estimated by the corporate valuation method differs from the discounted dividends method because

different assumptions are built into the two situations. If we had projected financial statements, found both

dividends and free cash flow from those projected statements, and applied the two methods, then the

prices produced would have been identical. As it stands, though, the two prices were based on somewhat

different assumptions, hence different prices were obtained. Note especially that in the FCF model we

assumed a WACC of 9% versus a cost of equity of 10% for the discounted dividend model. That would obviously tend to

raise the price.

aquamarineprairie-dog413